Bankruptcy: Third Circuit Overrules Judge Who Wouldn't Compel Arbitration (Web)

In In re Mintze, No. 03-4745, 2006 WL 45844 (3d Cir. Jan. 10, 2006)(available at http://www.ca3.uscourts.gov/opinarch/034745p.pdf), the Third U.S. Court of Appeals determined that there was no conflict between the purposes of the bankruptcy code and the Federal Arbitration Act, holding that a bankruptcy judge does not have the discretion to deny a motion to compel arbitration brought under the FAA.

The Mintze dispute centered around a home equity loan agreement between debtor Ethel Mintze and a creditor, American General Financial Services Inc., a lending unit of New York-based American International Group Inc. In 2000, Mintze, a retired, disabled, homeowner, needed to replace a $3,800 heater in her Philadelphia row house, according to the opinion, but could not afford to do so. AGF agreed to lend her the money for a heater, so long as she consolidated the heater loan with other debt, including her mortgage, her credit cards, as well as premiums for life insurance policies.

The agreement’s balance was more than $44,000. The loan agreement with AGF included a broad arbitration clause.

In 2001, Mintze had trouble paying her bills and filed a Chapter 13 bankruptcy petition. AGF filed a proof of claim. In response, Mintze filed a bankruptcy court complaint against AGF, seeking prepetition rescission of their loan agreement.

Mintze alleged that AGF induced her to enter into an illegal and abusive loan that resulted in AGF holding a mortgage lien against her home, in violation of the Truth in Lending Act, as well as other state and federal consumer protection laws.

AGF filed a motion to compel arbitration with the bankruptcy court under FAA Section 4. The judge denied the motion to compel. He determined that the dispute between Ms. Mintze and AGF should be kept within the bankruptcy court because the outcome would affect Ms. Mintze's bankruptcy plan, and the priority and distribution of her estate to her creditors.

Since the bankruptcy judge determined that this was a core proceeding of the bankruptcy court, he had the discretion to deny the motion to compel.

AGF appealed this ruling to the district court, which affirmed the bankruptcy judge's order; AGF appealed to the Third Circuit.

During the Third Circuit appeal, the bankruptcy judge granted AGF's summary judgment motions on Mintze's truth-in-lending and consumer protection claims.

The appeals court reversed on Jan. 10, holding that a bankruptcy judge does not have the discretion to deny a motion to compel arbitration under Section 4 of the FAA. Following the Supreme Court's decision in Shearson/American Express Inc. v. McMahon, 482 U.S. 220 (1987), a bankruptcy court would only have the discretion to deny arbitration if it found that Congress intended to create an exception to the FAA's mandate by looking to (1) the text of the relevant statute, the U.S. Bankruptcy Code, (2) the code's legislative history, or by (3) determining if there is an inherent conflict between arbitration and the code's underlying purpose. Id. at 227.

Nothing in the bankruptcy code’s text or legislative history suggests a congressional intent to override the FAA’s mandate, so the Court of Appeals considered whether there was an "inherent conflict" between arbitration and the bankruptcy code.

Although the bankruptcy judge concluded that the decision on Mintze's rescission claim would have an effect on the order of priority and the distribution amount to other creditors, her claim ultimately was based on the Truth in Lending Act and other consumer protection laws, not the bankruptcy code. But whether arbitration was a core proceeding was irrelevant to whether a bankruptcy court has the discretion to deny relief under the FAA.

In this case, the motion to compel brought under the FAA concerned the forum of the proceedings, not the nature of Mintze's claims. The Third Circuit stated: "With no bankruptcy issue to be decided by the Bankruptcy Court, we cannot find an inherent conflict between arbitration of Mintze's federal and state consumer protection issues and the underlying purposes of the Bankruptcy Code." Mintze at *6. Regardless of whether her claims were decided in arbitration or they were decided by the bankruptcy court, the outcome would have an effect on the estate’s distribution.

For AGF, however, this was a pyrrhic victory. Although the Court of Appeals reversed the district court’s judgment affirming the bankruptcy court's denial of AGF's motion to compel, and remanded the case with instructions to compel the parties to arbitrate, it also instructed the bankruptcy court to vacate its summary judgment orders with respect to Mintze's truth-in-lending and consumer protection claims. Now, these will be submitted to arbitration.

--By Eric Laufgraben, Associate, Dewey Ballantine LLP